Inequality Has Been Going On Forever ... but That Doesn’t Mean It’s Inevitable

We have been living with rising income inequality for so long — in good times and bad, under Republican presidents and Democratic ones — that it has come to seem inevitable. It is no longer news that the affluent did better than everyone else during the booms of the 1980s and ’90s and through the mediocre growth of this century’s first years. Or that the rich have recovered from the financial crisis far better than the rest of country.

But with exquisite timing, one of the most ambitious (and best-reviewed) books on the subject in years — Thomas Piketty’s “Capital in the Twenty-First Century” — appeared this spring to argue that rising inequality wasn’t merely a feature of our times. It has been the historical norm, writes Piketty, a professor at the Paris School of Economics. Inequality has risen throughout much of modern history, he writes, with the notable exceptions of wars, depressions and their aftermath, when everyone was forced to rebuild from a more equal place. And inequality is likely to continue increasing for decades, he says. Ultimately, we could end up with a society in which the rich separate themselves from everyone else, perpetuating their wealth from one generation to the next, as nobility of past centuries did.

That prospect sounds depressing, but it doesn’t necessarily have to turn out that way. To say that something is likely, or even natural, is not to say that it is inevitable. Not so long ago, the rich owned a much smaller share of this country’s resources and made a smaller share of its income than many of their predecessors. Perhaps more important, even though inequality has risen abroad, it has done so far less rapidly. Other developed economies (see charts at right), are not more equal simply because they lack success stories, like Warren Buffett, or have fewer investment bankers or hedge-fund executives. Instead, their middle class and poor have enjoyed more aggressively rising incomes, all while their economies grow as rapidly as this country’s in recent years. A more equal society does not mean a less dynamic one. (Germany is notably alone among wealthy European countries in having broad-based income trends nearly as weak as the United States.)

Inequality, then, is less an inevitability than a choice. Just as societies have conquered many of the challenges of the natural world — making childbirth safe for women or beating back common illnesses that once were frequent killers — we can alter the course of inequality, too.

For all of the clarity of Piketty’s historical analysis, I emerged from the book not quite grasping the mechanics of rising inequality. What is it about market economies that typically cause the assets and incomes of the rich to rise more rapidly than those of everyone else? So I called Piketty at his office in Paris, and he agreed to walk me through it.

He suggested imagining a hypothetical village from centuries ago in which neither the population nor the economy was growing. Every year, the village produced the same amount of goods for the same number of people to divide — a reality that was typical before the Enlightenment, when material living standards and human longevity barely rose. (The peasants of the 15th century were not better off than peasants in ancient Rome.) Even in a zero-growth society, however, assets that helped people produce goods — also known as capital — had value. Capital, Piketty told me, counts as anything “useful, any kind of equipment. Basic tools. Stones in prehistorical times.” Anything, in other words, that “makes people more productive.”

In our hypothetical village, a large farm might produce $10,000 worth of crops in a year and yield $1,000 in profit for its owner. A small farm might have the same 10 percent rate of return: $1,000 in annual crop sales, yielding $100 in profit. If the large farmer and small farmer each spent all of their money every year, the situation could continue ad infinitum, Piketty said, and the rate of inequality in the village would not change.

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SEPARATE AND UNEQUAL. Comparative data on incomes in different countries over time has long been hard to find. But at the request of The Upshot, a New York Times website on politics and policy, the research group LIS recently analyzed data from income surveys around the world stretching back to the late 1970s. The data showed that incomes for the American middle class and poor have risen more slowly than their counterparts in most other affluent countries — while the American rich continue to outpace everyone. The patterns suggest that American levels of inequality are not inevitable.CreditInfographic by La Tigre

But one of capital’s great advantages is that its owners can make enough income to spend some of their money and sock the rest of it away. If the large farmer saved $500 of that $1,000 profit, he could buy more capital, which would bring more profit. Perhaps a few owners of smaller farms had debts to pay, and one of the large farmers bought them out. Eventually, the owner of the expanding farm might find himself owning land that yielded $1,500 or $2,000 in annual profit, allowing him to put aside more and more for future capital acquisitions. Less-stylized versions of this story have been playing out for centuries.

I have come to think of this idea as Piketty’s First Law of Inequality. The fact that the rich earn enough money to save money allows them to make investments that other people simply cannot afford. And investments — whether stones, land, corporate stock or education — tend to bring a positive return. Piketty describes the relationship formally as r > g: the rate of return on capital usually exceeds economic growth.

Piketty, however, notes that certain things can disrupt this relationship. When a war destroys farms, the big farmers are no longer much richer than anyone else. A depression can play the same role. When income or wealth is taxed at high rates, the rich are not able to save and accumulate as much. It’s no accident that in the decades after World War II, when middle-class incomes were rising even more rapidly than the incomes of the rich, the top marginal income-tax rates were exceptionally high. In the 1950s, the top rate exceeded 90 percent. Today, it is 39.6 percent, and only because President Obama finally won a yearslong battle with Republicans in early 2013 to increase it from 35 percent.

Piketty advocates a global wealth tax aimed more directly at capital inequality than income taxes currently are. It would apply to anyone with more than about $1.4 million in net worth and become steeper on higher fortunes than moderate ones. It’s an interesting idea, but it has little, if any, chance of passing the current legislative environment. Yet Piketty mentions another, more politically plausible force that can disrupt his first law of inequality: education. When a society becomes more educated, many of its less-wealthy citizens quickly acquire an ephemeral but nonetheless crucial form of capital — knowledge — that can bring enormous returns. They learn to make objects and accomplish tasks more efficiently, and they sometimes create entirely new objects (or services). They become those children in the small village who attended school, went off to work in a factory, became managers and made bigger economic leaps above their parents than those of the large farmer did.

The great income gains for the American middle class and poor in the mid-to-late 20th century came after this country made high school universal and turned itself into the most educated nation in the world. As the economists Claudia Goldin and Lawrence Katz have written, “The 20th century was the American century because it was the human-capital century.” Education continues to pay today, despite the scare stories to the contrary. The pay gap between college graduates and everyone else in this country is near its all-time high. The countries that have done a better job increasing their educational attainment, like Canada and Sweden, have also seen bigger broad-based income gains than the United States.

Yet the debate over our schools and colleges tends to exist in a separate political universe from our debate over inequality. Liberals often shy away from making the connection because they worry it holds the struggling middle class and poor responsible for their plight and distracts from income redistribution. Many conservatives fear the implicit government spending involved. And so, our once-large international lead in educational attainment has vanished, and our lead in inequality has grown.

There are some reasons for optimism in education. Charter schools and school systems that have tried to introduce more accountability offer some lessons about what works and doesn’t in K-12. The total number of college graduates has begun rising again. That said, the changes in education — not to mention the tax code — are not nearly large enough to counteract the forces pushing in the other direction. A true attack on inequality would require that the country move the issue to the center of every political debate: how we tax wealth, how we tax the income of the middle class and poor (often stealthily through the payroll tax), how we finance schools and measure their results, how we tolerate income-sapping waste in health care, how we build roads, transit systems and broadband networks. These are precisely the sort of policies pursued by countries with better recent middle-class income growth than the United States.

The closest thing to an antihero in Piketty’s book is an economist named Simon Kuznets, who argued in the decades after World War II that inequality was destined to decline. His soothing prediction grew out the experience of the previous few decades, but he and many others confused a trend with destiny. We are now making that same mistake in the opposite direction. Rising inequality is a trend, but it is one we have helped create and one we can still change.